Indraprastha Gas: Promising pipeline

On the face of it, the recent June 2017 quarter performance of Delhi-based city gas distributor Indraprastha Gas was underwhelming – the company’s net profit (₹161 crore) grew just about 9 per cent year-on-year, far less than what it was in the preceding four quarters. But this was due to two factors. One, a provision of ₹10 crore made for increase in land lease rentals claimed by Delhi Development Authority, which the company has disputed in the courts. Also, increase in minimum wages by ₹12 crore impacted the bottom-line.

But for these additional costs, the company’s June quarter profit growth would have been a robust 24 per cent Y-o-Y. The core performance remained healthy with overall volume growth of 13 per cent and price realisation growth of 3 per cent Y-o-Y in the June quarter.

This is a continuation of the strong show in 2016-17 when the company’s volumes grew 14 per cent and profit increased 36 per cent to ₹571 crore. Indraprastha Gas has much going for it. Regulatory diktats to use natural gas, network expansion initiatives, entry into new markets, and significant price differential of its products vis-à-vis competing fuels should continue to drive volume growth for the company.

Besides, a near-monopoly status in Delhi and surrounding areas, benign costs due to cheap domestic gas and strong pricing power to pass on cost increases, should further aid margin and profit growth. With strong financial performance, the Indraprastha Gas stock has rallied strongly, more than doubling over the past year-and-a-half. At ₹1,271, it now trades at about 30 times its trailing 12-month earnings, compared with the average of about 19 times over the last three years. While its valuation seems pricey relative to the past, the stock has been likely re-rated. This is thanks to the company’s robust fundamentals and strong growth drivers that should sustain healthy performance. Investors with a long-term perspective can buy the stock.

Indraprastha Gas is the near-monopoly supplier of compressed natural gas (CNG) to vehicles and piped natural gas (PNG) to households and businesses in and around Delhi. Natural gas is considered a clean fuel. The company has benefitted immensely from various pollution control measures ordered by the authorities and the courts such as the crackdown on diesel vehicles, the experimental odd-even rule from which CNG-run vehicles were exempted, and the clampdown on use of polluting fuels such as furnace oil and petcoke in Delhi.

Volume growth that had slowed down in 2014-15 and much of 2015-16 picked up strongly in 2016-17 and has continued in the June 2017 quarter. CNG volumes were up 10 per cent last year and 11 per cent in the June quarter, while PNG volumes were up 19 per cent last year and 18 per cent in the June quarter. The significant price differential between CNG and competing fuels such as petrol and diesel, and between PNG and domestic LPG should continue to support volume growth.

The gap has widened in recent months with the hikes in the prices of petrol, diesel and domestic LPG. This should mean continued vehicle conversion to CNG and shift of households to PNG in Delhi and surrounding areas, where there is still good growth potential. The company’s network expansion initiatives and the Delhi government’s plans to add to the city’s bus fleet should also aid volumes. So should the company’s entry into new areas such as Gurugram and Rewari.

The company is also well-placed on the cost front. Raw material costs have fallen sharply over the past couple of years with the government prioritising supply of domestic gas (that is much cheaper than imported gas) to entities supplying CNG to vehicles and PNG to households. These segments account for more than 80 per cent of business for Indraprastha Gas.

Costs should stay benign with domestic gas available quite cheap. This is thanks to the pricing formula based on average pricing of four international gas sources that are trading low. Domestic gas price has fallen to $2.48 per mmbtu for the half-year ending September 2017 from $3.06 per mmbtu in the year-ago period. Even while the company passed on a portion of the cost benefit to customers, the operating margin increased to about 27 per cent in 2016-17 from 22 per cent in 2015-16. Besides, the near-monopoly status in its areas of operation and the big price differential of CNG and PNG over competing fuels gives Indraprastha Gas good pricing power to pass on increases in cost and sustain margins. The company has also benefited from the decline in cost of imported gas which it supplies to its industrial and commercial customers; volumes to this segment have also been growing at a steady pace.

Indraprastha Gas also has 50 per cent stake in Central UP Gas and Pune-based Maharashtra Natural Gas. These companies are doing quite well, with combined profit of ₹124 crore in 2016-17 and ₹36 crore in the June quarter. The government’s plans to have city gas distribution networks across the country should present many opportunities for experienced players such as Indraprastha Gas.

A strong balance sheet with negligible debt gives the company enough headroom to fund its expansion plans.

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